By Darrell Martin
Risk Management
It seems like traders hear this term over and over. Some understand it and benefit from the knowledge they have because of this understanding. Other traders seem to think that Risk Management does not apply to them or that somehow they are above learning about it. Risk Management is the most important thing in trading. A trader needs to be trading for the next 12 months, not the next 12 days!
Recently a trader had $15,000 in his trading account. Things were going well for this trader and the balance reached $30,000 IN LESS THAN TWO WEEKS! He was trading five-minute binary contracts. The better he did, the more contracts he traded. This system works until it doesn’t. He started to get cocky. Instead of using risk management, this trader added on multiple contracts when he lost trying to make back the money he lost by doubling and tripling the contract size. He didn’t stop when he was down a certain percent. Maybe he was like you have been sometimes thinking that the next trade will pay off the loss of the last trade so the trade is placed without following all the rules and it loses, too. This trader lost all $30,000 in three days!
We’ve All Been There
Nearly all traders have experienced this kind of loss at some point in their trading career. Traders have blown through their accounts with some having blown through multiple accounts! It’s an expensive way to learn. It messes with your head. After the account losses, the mental and psychological issues present themselves. You might find it “tough to get back on the horse.” You are scared to trade; scared to press the button. You find yourself always second guessing which causes you to miss the winning trades. You’re not taking every trade, so you end up only taking the losing trades.
What can you do? How do you overcome the fears that come after you have blown through your account(s)? There are definitely some things you can do that will help you if you ever find yourself in the same situation as the trader mentioned above.
A Plan Of Action
This trader knew how to trade and knew he could trade well. As he said, “I just got stupid on my risk. I’m afraid to get back in the market. I just don’t want to be stupid about it. I want to be smart about trading.” Fortunately for him, he had not risked too much of his total capital; he still had the funds. He also still had time to get back into trading. He needed a plan of action.
The first thing you need to do is determine the amount that you will put back into your live account. For this example, let’s say $5,000. If you are trading with Nadex, contact them and have them adjust your demo account to match that same amount.
Next, only trade spreads with a trending or premium collection strategy. You can try a neutral strategy like an Iron Condor or an Expiration Premium Collection Trade. These strategies have less risk which can help you add to your account more quickly.
What Is Going To Help You With YOUR Confidence?
If you are DOWN ten percent for the day, STOP! You have to be able to turn off the computer and walk away, after you have closed all of your positions. If you have been slammed by ten percent, you must physically remove yourself from yourself from your computer.
If you are UP five percent for the day, STOP!
If you are UP seven percent for the day, you can keep going with the extra two percent.
Follow these rules for two weeks straight and be profitable in demo while following these rules. If you break the rules, your two weeks starts over. You cannot go back to live until you are profitable and following the rules for two weeks straight! You are then allowed to put money in your account and start trading. It gives you an emotionally and financially invested interest in your demo account. The demo account becomes real.
It Is About Discipline!
If you cannot follow your own rules with good risk management and make money in your demo account, your emotions are going to get the best of you. You have to be able to take the emotion out of trading and learn to follow the rules. It will be easier when you go back to trading live, knowing exactly where you will stop each day, whether you are up or down. If you have a day where you want to brag to the world about how well you have done, i.e., followed the rules and been profitable, withdraw half of the profits. At the end of the week, if you have not made a withdrawal, take out half anyway. It’s a good idea to have a savings account linked to your Nadex account to keep those withdrawals available in case they are needed. Call this savings account your “Dry Powder Account.” This term goes back to military times when gunpowder was used in guns and cannons. If the gunpowder became wet, it was ineffective. In the world of finance, Dry Powder refers to cash reserves set aside should tough conditions arise in the future. If you set aside half of your profits each week, you will be able to rebuild your account easier.
Good Risk Management Tricks
It is important to overcome emotions that hold you back in your trading by learning to stick to your rules no matter what! Some other tricks include the five percent divided by six rule. You can read about that in Three Money And Size Management Models by Darrell Martin. You could limit your trading to one contract per $1000 in your account. Maybe you will want to only risk one percent or five percent of your account size per trade. Limit yourself to trading only one contract at a time. All of these tricks will allow you to grow your account safely. Remember that even though there is currently a lot of buzz about binaries, new traders are better off starting with spreads. To further your trading education, please visit www.apexinvesting.com.
